It was recently brought to my attention that Xbox Live Indie Game Developers who are considered to be “non-resident aliens”, in other words foreigners living in another country without US citizenship, have been having trouble getting paid for their royalties through Microsoft.

After reviewing the site, I can see why, Microsoft provides no legal advice to game devs, and strictly forbids it in their forums. Being able to wrap your head around getting an ITIN, applying for zero withholding due to tax treaty status, and dealing with the IRS can be very challenging.

I hope to clear this up for those people.

In order to get paid from Microsoft and you are a non-resident without US citizenship, you must:

1)      Have or get an ITIN (W7) or EIN (SS-4)

2)      Submit a form W8-BEN

Seems simple, right? Well there is a lot of tricky information on these forms. Also, I read in a couple areas of the Forum that people simply got an EIN number. That would be impossible without an ITIN or SS#, so I am not sure how they were able to do that. My advice is to not listen to them, and proceed with an ITIN.

First I have filled out a W7 based on the way that most people would use them:

W7 Form Example

The assumption in that form is that your country falls into a “tax treaty” zone. See this page Table 1, Column 12 – Copyright Royalties, Other, and Footnotes). If your country has a 0 in that field you are in a tax treaty country. If you are not in a tax treaty country, the US will unfortunately withhold your money and you must file a US tax return. I can touch on that in a later post.

IRS Publication 901 (All Countries) – http://www.irs.gov/pub/irs-pdf/p901.pdf

For the section of the W7 (section H) that requires your country’s article number. You can find that here:

http://www.irs.gov/Businesses/International-Businesses/United-States-Income-Tax-Treaties—A-to-Z

Search for your country, click on it, find “income tax treaty”, click on it, find “Royalties”, notate the article number on the W7

You must include identification with the W7 when you mail it in. Ideally send in a Properly Notarized color copy of your passport, the notary MUST be properly licensed or from a United States Consulate. If you can’t find a notary, you will have to mail in the original passport. I would recommend using a courier so they do not lose the passport. You will get the passport back, the US is pretty good about that.

Alternatively, the IRS will accept other forms of identity. You must submit two forms of ID from the list. One must have your picture on it. If you submit notarized copies and not the originals they must be copies showing the front and back of the card.

• Birth Certificate
• Drivers License
• Military ID Card
• Foreign Voter Card

In addition to the ID, you must include the letter from Microsoft. I have not seen this letter, but the requirement are:

“A signed letter or document from the withholding agent, on official letterhead, showing your name and verifying that an ITIN is required to make distributions to you during the current tax year that are subject to IRS information reporting or federal tax withholding.”

Next is the W8-Ben. Almost every one of you will submit this version. If you question this, see a tax professional.

W8-BEN

Follow the instructions that I put on the form. This one is pretty simple, pretty much every one of you will use the same information.

A couple of notes:

• Make sure you use the exact same name for your Microsoft account that you use with your W7 and W8.
• If you are confused with the information that I provide, you must seek the help of a tax professional. This information is set up to be a guide and not meant to be specific to you and your situation. It is not meant as direct legal advice and I cannot be held responsible for the use of this information.
• I realize this process is difficult, but look at the bright side, once you are done with it, you never have to do it again!
• I will keep brainstorming alternatives, but it seems right now that this way is the least expensive way of doing it. Email if you are willing to bypass all of this and are willing to pay $500 to set up a corporation in the US. I may add to this post if enough people are interested.

A question that I get a lot is what I have actually saved companies for providing my three favorite tax incentives.

I will use a mid-sized company as an example. This is a company that makes between 1- 6 million in revenue each year.

Items to be Included: Typical wages and contractor expenses. If the company takes my advice for computer leasing and internal software use. Use of supplies, and segregation of administration duties.

NOTE: (If none of the above makes sense, please let me know, I will write a post on it if enough people want to know).

I can usually save a  ~3 million dollar per year (revenue) company:

• $200,000-300,000  in R&D credits (based on wages, patents, trademarks,  supplies, etc)
• $9,000-18,000 in Domestic Production Activities
• $200,000 in California Enterprise Zone (other states have enterprise zones too at different rates of course: NY, VA, FL are just a few)

Total: $409,000 in taxes… not too bad. and all of that is carried forward to future years if not used in that particular year.

In addition to that, I LOVE tracking IP (intellectual Property). Video Game Devs and Tech start-ups create their business around them. They fall into very similar rules to depreciation (not quite the same). This can be a TREMENDOUS
tax deduction if used properly.

Contact me if you would like to learn more, I provide free advice for start-ups and video game devs!

I have been getting this question more and more. Indie video game devs have one thing in mind, and that is making a great game. The last thing they want to think about is financials and taxes. But in this age of Kickstarter and Pre-order sales, they find themselves in a position where they do have to worry a lot earlier then expected.

My advice for Indie Devs:

1. Don’t sweat the entity

Don’t worry about starting an LLC or Corp until you are or about to make money on your game(s). It is something that can be set up easily and efficiently. Also, many game devs get the wrong entity. For most devs, I highly recommend an S-corp, they are flexible, have common shares (for shareholders), and provide a great tax benefit. An LLC can actually act like and S-corp, so dont sweat it if you already set one up.

If you have investors, even just family members this may get a little bit complicated. Legally, and technically you need to stipulate this in your bylaws or articles, if you are eventually going to have a corporation (or LLC). The good news is, that you can have a written agreement with them to have a convertible note (loan), that will allow them to turn their loan into stock or membership rights, regardless if you change entities. I will think about this more, I may be able to post a legal agreement template if enough people want one, email me if you do.

2. Keep track of your expenses

Open a separate bank account, they are usually free, it will completely separate your business related expenses to your personal ones. This way, you wont need to save every darn receipt that you get, you can simply refer to the bank statement. Remember, it is important that you track your expenses, every payment that is business related should come from your business account. This can pay off for you in the future if you ever choose to use tax incentives. It is also good practice.

3. Software (a video game) is an asset

If you are building a game with multiple partners, keep an eye on the time you spend on your software, it doesnt need to be exact just a rough idea, because when you eventually pay yourself for that work, you will want to include that payment as part of the “value” of that asset. This has tremendous benefits for an indie dev, not only can it be deducted all at once, but it raises your company’s net worth and net income. It is a complex tactic that makes a powerful tool to smaller businesses. In Summary, the main reason for this is that it looks good for publishers and banks when you show them your financials.

4. If you have “partners” get a partnership agreement (or by-laws for an S-corp)

I cant stress this one enough. Just a simple agreement saying who is entitled to what profits at what percentages. As long as it is in writing, there is no argument against it. Establishing a basis in a partnership (or S-corporation) is important as well, this is a value that is due to you if you are kicked out or the partnership (or S-corp) is sold. If you put your own personal money into the business, this increases your basis.

I have to note that most of the time you are working with close friends, this may not be required, I just always feel it is good practice then there are no questions as to who is owed what.

5. Once the cash is rolling in, get a professional *not all professionals are good

This is the kicker, hire a good CPA. Hopefully one that has experience in the gaming industry. They should know about the Reseach Credit, any local credits, and the Domestic Production Activity Deduction. If they dont know about those simple things, then find another. Just those simple tax incentives can save you thousands if your game ever takes off. They should also be able to provide you with strategies that translate to you personally (to better your financial situation far into the future).

Not all professionals are good, there are a lot of them who really just dont care and are only in the business for the money, I know because I run into them everyday. Try your best to spot those types. Ask a lot of questions, because if they really care and they will be truly interested in growing with your company. Find CPAs that give free consultations  meet with a few of them, it will pay off for you and your Indie Dev Team.

Best of Luck!!!

Note: This list may expand – I am constantly getting asked this question, and I think of new important issues all the time.

How can a foreign person, not living in (or near) the united states, start and run a Kickstarter Campaign?

These questions always get me excited because they are not the norm, and require a lot of thought and creativity to accomplish. So far so good, I have been helping quite a few foreigners set up Kickstarters. Here are the basics of how I did it:

There are many requirements to start a Kickstarter Campaign. Two big ones are to have a US Entity (LLC or Corp) or Social Security number, and a US bank account. These two requirements alone would deter quite a few foreigners from trying, you would need someone you knew and trusted in the US to handle that for you. Even then, that person could face tax consequences for running that bank account for you if it is not properly planned (I will cover this in a later post). This leaves very few options to set one up.

The way that I have accomplished this is unique but very time consuming, consider this OPTION 1:

1. First things first, I had to start a corporation so that the foreigner(s) would be the sole shareholder(s):

A Delaware Corp is a great idea, they are cheap, provide excellent legal protection, and have a small Franchise Fee for share holders (Typically $225). I can set these up for $550 with a 48 hour rush ($500 without), highly recommended for time constraints of setting up Amazon Payments. I highly recommend you DONT use any of the silly websites that charge you to set up the corporation, they typically charge a mark-up and sometimes yearly fee, most of them do not allow the rush either.

2. Second, I apply for an EIN number - This one is pretty simple and can be done once the Corporation is in place.

If you already have a SS# or ITIN you can get an EIN here

3. Next step is to Get a US helper.

This is the tough part. If you are trying to run a Kickstarter campaign, you need to have one.

Amazon Payments needs to confirm that your name is associated with the US address that you live at. Kickstarter also requires this in their own version of verification. The US helper must be available to use their name for Amazon.com and Kickstarter. They must be considered a key role in your team. Giving them the title “CFO” will be enough to accomplish this.

You, as the foreigner can still hold signer privileges on the bank account, but it may be difficult – see below

4. After you get a helper, you need a US based Checking Account

To set up a bank account without my help, you need:

• A tax ID number registered with the IRS. You can get one by filling out and mailing in this form: http://www.irs.gov/pub/irs-pdf/fw7.pdf You will need to provide a Notarized copy of your passport.
• Once you get that, find a bank that is located in the US, that has a branch in your country. You must be able to go there in person to set up your signature account. Use your ITIN and EIN number to open the account. Your helper in the US may need to provide documentation supporting this information to a local location. You MUST have a US address on the bank statement, but it can be managed online by you as a foreign person.

Or

• You can have a friend or family member that you trust who lives in the USA (with a SS#) open up a checking account and be an authorized signer on the account.

5. After this process, you may ask: Can I get taxed in the USA for Kickstarter Funds?

The easiest answer is a small portion of your funds will need to be taxed in the US order to legally run the Kickstarter Campaign. Your foreign company must eventually “pay” the US company for providing the service to run the Kickstarter Campaign for them. I would say a good safe number would be 1-3% of the Kickstarter proceeds for services. They must reflect the market value of the work that it took to complete the whole process.

That 1-3% will be taxed in the US at the corporate income tax rate, then whatever is left over can be issued as a liquidating dividend to your foreign company, and taxed in your country appropriately.

The amount that your company eventually received from the Kickstarter Campaign should be taxed in your country depending upon your countries tax laws.

6. Large balance international wire transfers – I swear I am not a terrorist!

You can request the US bank to pre-screen the wire transfer so the department of homeland security will not come and break down your door. It will take a few days, but it is by far in your best interest to do it this way.

—I do offer the above service (for option 1), but due to the complexity, it comes with a pretty hefty price tag. Over $2000 for an initial fee for all of the consulting and set up necessary.

Now for OPTION 2

My company will handle the amazon payments account, taxes on the fees to me, and transfer of funds. All of this would be done 100% legally. Most of the time countries have a tax treaty in place to eliminate double taxation, if not I have ways to greatly reduce that taxes enough to where it is a small enough amount that it wont be noticeable. We would have a contract in place that outlines everything that will occur. I have many clients currently, as well as 2 successful Kickstarters that can attest to my services. It would make absolutely zero sense for me to commit fraud.

—I provide this unique service (option 2) for companies or individuals who may not have a person in the US that can help them, but it comes with a price, and I do pre-screen companies. There has been a very high demand for this since I started, and for many reasons, I decided to start doing it this way.

• $1000 fee to set everything up and verify your Amazon Payments and Kickstarter – This fee establishes us as a client as well as covers my time commitment to the project.
• Whatever is more: $1,500 or 1% of the successfully funded amounts *ONLY if the kickstarter is successful, this is to cover my legal costs and bank account management services.

You will have to be willing to give up control of your funds (and bank account) and allow me to transfer the money to you in a foreign country. I would handle all of the tax consequences here in the US, you would be responsible for any taxes in your country of origin. I would also provide consulting as needed, and would be a huge advocate to promote your project. The set up fee is refundable if you decide not to use my services and as long as I have not started working on the project.

I only work with Video Game Devs right now, but I may consider another type of company depending on the circumstances. You must include what you plan to do in your email if you think you are the exception.

If you wish for consulting regarding taxes and your project, I do offer that at my standard consulting rates of $200 per hour.

Note: Kickstarter must approve the project itself, they look at the content of your Kickstarter and it must meet their guidelines.

So many new game devs have asked me, and have had concerns over how much my services cost them. I don’t blame them, they are trying to save as much as possible right now, every dime of their existence is going into this project that they have been working on. This article would apply to the start-ups, that really need to start accounting for their income.

I don’t blame them for asking, there are so many unethical shysters out there that are willing to take all of your money with the promise of “massive” money savings. Other CPAs provide services, but offer no insight into how you should manage your financials. Having a “CFO” level of services on your side is very important in this new world of game development and tech start-ups.

My views on the traditional CPA are very pessimistic too, in that most CPAs offer very little to their clients. I will have to write more about this in a future post.

To the point of the post: My fees are very simple.

I don’t charge for advice if you are my client. period.

I charge when Credits and Deductions are analyzed and utilized. I do this because my expertise reflects that these credits would have never been used, and could never have been used unless my analysis was done. I typically charge a percentage of the credit or deductions used, so in other words after you take advantage of the credit, and have money in your pocket, I charge a percentage of that.

I charge $300-500 to set up a Corporation or LLC depending on the state; I find that this is completely reasonable, as most online services are the same if not more (and most charge a yearly fee). I also find that an S-corp or LLC is all that a video game dev needs, and it is VERY important they set this up for future tax purposes.

I charge $200 per hour on corporate tax returns and/or bookkeeping services for the company. This depends primarily on how complex the tax return/bookkeeping is. I always wish that I could nail down a number for people, but I see everything under the sun.

BUT,

THE BOTTOM LINE – you will be saving much more money than you are spending in fees. That is my policy, at the end of the day, I don’t feel accomplished unless this is achieved. I can find so many deductions, incentives, business advice by being involved in your company that you will save so much more than you spend. Many clients see results immediately.

And if your CPA says otherwise, fire them. I have seen two articles already where a Kickstarter video game project says they had to pay taxes on their left over money in their first year, this makes me sad, because you can easily avoid that.

NOTE: There has been some confusion on this article where people seem to think I am suggesting you avoid or evade taxes. That is NOT the case at all. These methods used are 100% legal ways to reduce or postpone taxes paid. I want to be very clear: ALL OF THESE METHODS are 100% legal and are in no way avoiding or evading taxes.

In order to eliminate taxes all together there is a simple accounting rule and election of income that you can use, if that fail (which it wont 99% of the time), then there are a few more complex methods that can not only reduce the tax, but can set yourself up to have a tax benefit to carry over to future years, and should probably be used regardless of your situation.

I will start with the first and most simple method:

Accrual Accounting.

Accrual accounting is an election that is made on a tax return that allows you to claim income when it is earned, rather than when it is received. This means that every video game company (or many others) out there who get Kickstarter funds would not have to pay taxes on those advanced payments until the game is actually made and distributed to those individuals who pre-purchased it.

Going further, let’s just assume that you have given away items such as T-shirts, artwork, and prizes that you distribute to your backers the first year. You would have to include in income up to cost (or fair market value) of those items on your tax return, because technically you did provide a portion of the service and some of that income was technically “earned”. Therefore, you will be responsible for some of the income earned. What’s important to note, is that you will easily be able to offset that income “earned” with the first year’s expenses or the cost of those items (t-shirts, art, etc.).

Simply electing the accrual accounting system is not enough in itself (which anyone can do including individuals, LLCs, Corps), the IRS still requires a special election to classify the income. If that election is not made, the income falls under the rules set in publication 538 (passage in quotes below) and you do not get any benefit from the accrual election, further, you must use the instructions in pub 538 to properly elect the classification on your tax return in order to make that income an “advanced payment”:

“You report an amount in your gross income on the earliest of the following dates.

• *When you receive payment.
• When the income amount is due to you.
• When you earn the income.
• When title has passed.”

It is important to properly elect to classify this income. I highly recommend a professional handle this for you, as it is easy for someone untrained in taxes to make a mistake with this election. The key to this is to talk to many professionals and ask them if they understand these concepts, as I have seen over and over, most professional do not.

Other Tax Savings Tactics:

Research and Development tax credit

This one I write about all the time, and if you are a video game dev and your accountant has not offered this to you, fire them right now, the benefits are tremendous and could potentially eliminate taxes on income generated from both Kickstarter and sales to the general public. The credit requires some heavy analysis. My firm and many others will not charge until the benefit is used, so it makes complete sense for you to utilize it.

Domestic Production Activity Deduction

This deduction was created in 2004 and was meant to be geared toward the manufacturing industry, then the attorneys over at Electronic Arts successfully lobbied congress and extended it to software and video games. This deduction is 9% of net income, which is an incredible tax break that nearly nobody knows about. For someone that has a net income of $100,000 can easily write off $9,000 as an additional deduction, potentially getting up to $3,000 back in taxes. There are many other requirements to elect this deductions, so again, I advise you to consult a professional with experience utilizing this deduction, not all of them have this skill.

Updated 4/19/2013 with additional information, fleshing out the concepts

Again, this article is only meant as informational, many individuals and companies have unique situations, I recommend you consult a professional before applying any of the above information.

NY Times Article

This article says it all. EA taking advantage of the exact tax incentives that I offer analysis for.

It doesn’t take a team of accountants to save money in taxes

Aside from the intrinsic value of having local contractors that are easily accessible and speak the same language, there is a value of keeping your contractors that you hire local and in the US.

There are tax incentives in place for keeping production activity in the US, and in some cases may offset the up front savings of looking for contract work overseas.

The R&D tax credit and the domestic production deduction can offset a companies tax liabilty by enough to make it worth it. An example of a small video game developer below:

Over three years of development the video game developer accrues:

• $200,000 domestic wages
• $60,000 contractor 1099 expenses (foreign and/or domestic)
• $10,000 in computer leasing expense

The company releases its video game and earns $500,000

Typically the tax bill would be $175,000 for someone who has no accounting system in place, but lets assume they understand a basic accounting and deduct the expenses based on accrual system. this leaves them with a tax bill of around $70,000.

Assuming the contractors hired were outside the US, and Utilizing the R&D credit and domestic production deduction on all other activities, they are left with a $40,000 tax bill

If the contract work was completed by someone IN the US, the tax bill would be $8,000 less at $32,000.

In this situation, if the company chose to pay contractors within the US, they would have saved $8,000. The bottom line is companies should take this into consideration before thinking about how much they save by hiring overseas.

Video game devs have it good when it comes to taxes, a properly set up system in place could save them thousands and sometimes let them pay as little as 1-2% in taxes. With the basics in place, the Research and Development tax credit, and the domestic production deduction can put that nail in the coffin to nearly eliminate any tax burden once the game is released. Not only that, but many states offer their own Research Credit AND Enterprise Zone Credits (I count those as one).

Results truly vary based on the developer because of the use of their expenses. But the bottom line is that 100% of indie devs can take advantage of at least one type of incentive.

In my experience, Sadly, very few use a professional when they start due to the initial costs. Though spending a few hundred may be the smart thing to do because the last thing they want is to be stuck with a 3 million dollar tax bill that Markus Persson got from his little project called Minecraft (Although Sweden’s taxes are a bit higher than they are here).

R&D Credits

A smart company would not only set up a corporation or LLC and pay themselves and their employees salaries, but they would also utilize the R&D credit for every year of development. The dollar for dollar tax credit allows the company to carry forward the credit they utilize each year of production and eventually use the credit to offset their net profits once the game is being sold.

DPA Deduction

Not only are these credits available to all video game devs, they also have access to a little known deduction called the domestic production deduction. This allows video game devs to deduct up to 9% of income earned from production activities that occur here in the US.

Enterprise Zone Credits

Now, this doesnt apply to everyone, but many states, including CA, NY, SC and FL (among some others), offer an EZ credit. This is a very complex credit, but can save a company thousands in taxes.

Conclusion

The combination of good accounting practices and sound use of tax credits can literally eliminate tax liability from sales of video games. I have worked with many companies virtually eliminating their liabilities using these techniques